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Category Archives: Tyler Craig

How to Manage Risk in the Stock Market

Rich Dad Education Stock Success

In the hierarchy of stock trading principles, none stands higher than risk management.  Without it, failure is all but guaranteed; success all but impossible.  Absent sound risk protocols, even the best trading strategy is doomed.  On the other hand, effective risk management can give even the worst trading strategy a fighting chance.

In crafting my own set of risk rules, I’ve found the following exercise helpful.  Suppose we select a random individual from the streets of any major U.S. city, plop them in front of a trading terminal, and let them trade in the stock market with $100,000.  Let’s say you are tasked with the responsibility of drafting a set of risk management rules, which they are required to abide by.  Your objective is to help them survive as long as possible, so that they can learn the art of trading through first-hand experience.

What kind of rules might you create?

The ideal approach, of course, is to structure a set of rules that makes it as difficult as possible to blow up the account while still leaving them open to accumulating profits.  The goal isn’t so much helping them capture large gains, as it is helping them survive.  After learning how to survive, they can modify their approach to being more aggressive and seeking larger gains.

Here are three rules worthy of inclusion:

1.  Risk a small percentage of the account, such as 1%, in each trade.  This protects against any one bad trade derailing your performance for the month.

2.  Stagger your entry into new trades over time.  This reduces the chances of incurring your max loss on multiple trades simultaneously.

3.  Employ weekly and monthly loss limits to cut your losing streaks short and allow you the opportunity to take a step back and resurvey the markets to gain clarity.

There are undoubtedly other risk management rules worth adding to the list.  The interesting part of this exercise is that it isn’t a game.  It’s real life for most traders and the objectives are the same.

First learn to survive, then you can up the ante and seek additional profits.

By Tyler Craig, CMT
Rich Dad® Education Elite Instructor

How to Play to Your Strengths in the Stock Market

Rich Dad Education Stock Success

Within our curriculum of Rich Dad Education Elite Trainings, we cover dozens of different option trading strategies.  When faced with this smorgasbord of choices, many traders wonder how to select the best one.  Perhaps you, too, have faced this dilemma.

Should the strategy match your personality?

Sure.

Should it fit your risk tolerance?

Definitely.

In the end, however, I suspect the best answer is to select the strategy that you know how to make money with.  After all, what good does it do to employ a fancy strategy if you’ve yet to figure out if you can make it work?

And how do you do that?  Why, with paper trading, of course.

For those otherwise unfamiliar with paper trading, a brief review is in order.  Sometimes called virtual trading, paper trading allows you to practice any strategy or technique with “Monopoly® money.”  Not only will paper trading help familiarize you with how to place trades in your brokerage account, it also helps you test drive a strategy to ensure you know how to make money with it before going live.

Keep in mind, virtual trading is but a step on your path to trading success.  Don’t bask in the sweet safety of the virtual realm for too long.  Once you’ve proven a strategy and have a good track record, transition to the real world to reap the rewards of your educational efforts.

In sizing up your strengths consider how well you do at forecasting direction.  Those with a knack for divining the future will naturally gravitate towards more directional strategies.  If you’re a chart reading rock star with a penchant for trend riding, then by all means, swing away with the different directional plays we teach such as stock trading, long calls and puts, or spreads like bull calls and puts.

If, on the other hand, the market’s next move along with quality setups continually elude you, then perhaps you should focus more on the bevy of high probability, non-directional strategies we teach like bull put spreads, bear call spreads, iron condors, and the like.

You don’t have to master every strategy.  Find what works for you, play to your strengths, and the profits will follow.

Tyler Craig, CMT
Rich Dad® Education Elite Training Instructor

 

Power Surge in Energy Stocks

energy lightning

Last week’s mention of the weakness in leading stocks like biotech prompted some insightful conversations in my recent Rich Dad® Education Trading Labs. Along with discussing potential adjustments to make in our trading we investigated which areas of the market may still be providing bullish opportunities. A brief survey of the major U.S. sectors found that energy stocks were sporting perhaps the most compelling setups.

Here’s a quick tip to save some time finding strong stock sectors. Rather than looking at the chart of each sector one after the other, use the sector rotation feature provided in the tools menu of the MachTrader software. After selecting “Tools”, hover your cursor over “Broad Markets” and a window will pop up that says “Sector Rotation: Sector SPDR PerfChart”.

When the interactive chart shows up change it to a histogram using the button on the bottom left (black arrow). Then, right click on the slider bar at the bottom right (blue arrow) and select “Past Week”. The standout in relative strength for the past week has been the energy sector besting the performance of the S&P 500 by 2.77% (red arrow).

Energy rel. strength

The relative strength in the energy space is easily seen in the chart of the Energy Select Sector SPDR (XLE) which just broke out to a new multi-year high. Its recent consolidation has taken on the form of an inverted head and shoulders pattern provided further bullish implications for the budding sector.

XLE price chartSource:  MachTrader

With the broader market under pressure and many leading momentum stocks like Netflix (NFLX), Tesla (TSLA), Priceline (PCLN), and Solar City (SCTY) falling into downtrends, some may be wondering if they should even be considering new bullish trades at this juncture. The answer really depends on you. Some traders avoid entering any new bullish plays while the market is under pressure while others simply dial back both the amount and size of their bullish bets.

Here’s the key takeaway for me. Were I inclined to enter new bullish plays I would limit it to the best of setups in the areas of the market showing the most relative strength. If you’ve wondered where to look for stocks that are staying afloat amid the market’s recent swoon, wonder no longer. Take a gander at energy stocks.

Tyler Craig, CMT
Rich Dad® Education Elite Training Instructor

Biotech Bloodbath

Soaring Biotech stocks have soured this week. The beloved biotech sector – which I’m charting using the iShares Biotechnology ETF (IBB) – has been the champion of the ongoing bull market in U.S. stocks. The leadership in IBB really hit its stride in 2012 and hasn’t looked back since. Compared to the S&P 500’s 182% gain since March 2009, IBB is up a barn burning 368%. The bull market in biotech hit a snag this past month, though, and has now fallen some 15%.

So what do we make of the recent bloodletting? Is it a well-deserved bout of profit-taking or is a more ominous shift afoot?

I suspect it’s too early to tell. Let’s take a closer look on the recent damage suffered by IBB. Three bearish developments in particular stick out to me in IBB’s daily chart. First, the biotech ETF has fallen below its 50-day moving average for the first time in four months. Second, the downturn was accompanied by quite the volume spike. On closer inspection Monday’s volume of 6.5 million was the highest volume day in the ETF ever. Third, the swoon has been sufficient to reverse the short-term trend of the comparative relative strength.

IBBSource: MachTrader

Before declaring the bull run in biotech dead, however, allow me to mention a few counter-arguments. For starters, IBB has stumbled beneath its 50 MA numerous times in the past but successfully recovered from each downturn. Second, the weekly uptrend in IBB is well intact despite its recent plunge. The uptrend in relative strength also remains in place. If the selling frenzy is successful in turning these larger trends lower then traders should begin taking the weakness in biotech much more seriously.

IBB weekly

The swiftness of the plunge in biotech is concerning to be sure. Traders hoping that the latest pullback in stocks will be short-lived should pay close attention to the action in IBB. If this once leading sector can begin to rise again it may well signal the broad market uptrend is ready to resume.

Tyler Craig, CMT
Rich Dad Education Elite Training Instructor

How to Spot a Market Top

Last week we celebrated the bull market’s fifth year anniversary.  This week we look at a question I’ve received with increasing frequency in the past few months – how do you know the market has topped?

Short answer:  you don’t… at least not until after the fact.

The hard cold truth is no one knows when our aging bull market will take its final gasp.  There isn’t a tool or trick in all the world of Wall Street that can nail a market top – or bottom, for that matter – with regularity.  While we can measure the median length of a bull market it provides nothing more than a ballpark figure.  By definition half of all prior bull markets ended before the median while half lasted longer, with some lasting much longer.

Here’s a stat for you to chew on.  Since 1871 there have been approximately 16 cyclical bull markets with the median bull market lasting 50 months.  At five years old our current bull market has run 60 months.  You might think knowing the average duration helps, but it really doesn’t help that much.  Every bull market is different.

Another fact worth consideration is that four of the 16 bull markets lasted over 90 months.  So while today’s bull market has eclipsed the magic median length there’s nothing to say it can’t continue for many months and maybe even years to come.

And what of technical analysis?  Might we be able to use any of our whiz-bang indicators to increase our top spotting accuracy?  Sadly, the answer is no.  While we have tools aplenty to assess trend direction and momentum we’re unfortunately found wanting when it comes to forecasting both the magnitude and duration of a trend.

So instead of obsessing over every little dip and wondering if this selloff will be THE selloff, the plunge that finally fells the bull, follow the trend. Heed the time tested wisdom that a trend in motion stays in motion.  While we can’t accurately predict the eventually length or height to which our mature bull market will climb, we can at least identify the current trend and the price levels which, if broken, will indicate the trend is finished.

Rather than getting caught up in the day-to-day machinations of the market consider using the weekly trend as your guide.  Until we break any key support levels on this larger time frame the bull market remains well-intact.  In the chart below I’ve drawn a couple key trendlines in green and red.  At a minimum the S&P 500 needs to break below 1750 for us to talk seriously on whether or not the uptrend – and potentially bull market- is toast.  Until then any talk of the bull market being finished is premature, highly speculative, and lacking any real confirmation.

SPX market topSource:  MachTrader

Tyler Craig, CMT
Rich Dad Education Elite Training Instructor

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